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Macroeconomics

Aggregate Demand and Aggregate Supply
by

Khanh Nguyen

on 5 May 2010

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Transcript of Macroeconomics

Aggregate Demand and Aggregate Supply Economic Fluctuations Economic activities fluctuate from year to year. In most years, the production tends to rise. However, in some years, recession happens... Short-run vs. Long-run Classical Theory: Nominal and real variables are independent. Monetary Neutrality: Changes in money supply do not affect the real variables. Real varibles and nominal variables are closely connected. Changes in money supply may have a temporary affect on the real variables. Model of AD & AS Aggregate Demand Aggregate Supply (AD curve) tells us the quantity of all goods and services demanded in the economy at any given price level. Downward sloping curve WHY??? Quantity of output: Y = C + I + G + NX
Price level & Consumption: The Wealth Effect Price level falls
More Wealthy
Spend more
Quantity Demanded Increases Price level & Investment: The interest rate Effect Price level falls
Interest rate reduces
Invest more
Quantity Demanded increases Price level & Net Exports: The Exchange Rate effect Price level falls
Interest rate reduces
Domestic currency depreciates
Cheaper domestic products
Increase exports
Net exports increase
Quantity Demanded increases An decrease in price level leads to an increase in quantity of output. Therefore, AD is downward-sloping. A shift in AD WHY??? Quantity of output: Y = C + I + G + NX
Shifts arising from Consumption Shifts arising from Investment Shifts arising from Goverment Purchases Shifts arising from Net Exports In the long run, the AS curve is a vertical line In the short run, the AS curve is a upward-sloping curve. WHY??? In the long run, the price level and output are independent. AS curve is a vertical line. Goods are services are produced at the natural rate of output. A shift in long-run AS curve Shifts arising from Labor Shifts arising from Capital Shifts arising from Natural Resources Shifts arising from Technological Knowledge WHY is it upward-sloping? The Misperceptions Theory The Sticky-Wage Theory The Sticky-Price Theory Fall in price level
Misperception in a fall in relative prices
Reduce the quantity of output Nominal wages adjust slowly
Price level falls
Real wage = (Nominal wage)x100/PL
Real wage rises
Firm's costs increase
Cut down labor
Cut down production
Reduce the quantity of output Fall in price level
Price unchanges
High price
Sales reduce
Cut back on production
Reduce the quantity of output Wealth Effect Interest Rate Effect Exchange Rate Effect The shifts of short-run AS curve Similar to long-run: labor, capital, natural resources, or technology. The expected price level Expected price level increases
Nominal wage increases
Firms' costs increase for ANY given price level
Firms reduce production
Output decreases at any given price level
AS curve shifts leftward. An increase in expected price level
-> Quantity of output decreases at any given price level
-> AS curve shifts leftward.
An decrease in expected price level
-> Quantity of output increases at any given price level
-> As curve shifts rightward. The effect of shifts in Aggregate Demand Leads to the shifts in short-run AS curve In the short run, shifts in AD cause fluctuations in the economy's output of goods and services. The effects of Shifts in Short-run AS Curve B In the long run, shifts in AD affect the overal price level but do not affect output. Shifts in AS can cause stagflation - a combination of recession (falling output) and inflation (rising prices).
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